Saturday, November 24, 2012

Argentina nearing technical default

Argentina CDS spread has blown out to new highs last week. In spite of Argentina's government driving the nation's economy into the ground (see discussion), this widening was caused by increased risks of the so-called "technical default" rather than deteriorating economic conditions.

Argentina sovereign CDS (source: JPMorgan)

For years, bond holders of Argentina's government debt (issued under NY law), who did not participate in Argentina's restructuring plan from the 2001 default, have been fighting to be treated equally (pro rata) with those who had accepted the restructuring terms. But Argentina has insisted that that those who did not play ball in their restructuring plan - the "holdouts" - should get nothing. Last week however a US judge gave Argentina a Thanksgiving surprise by ruling in favor of the holdouts. That means the holdouts will need to be paid everything that the restructuring participants got over the years, including all the interest.

JPMorgan: - Last Wednesday, District Judge Griesa issued his decision in
the pari passu ruling ahead of Thanksgiving ... in favor of holdout creditors. Griesa
defined a pro rata payment formula that requires full upfront
payment by Argentina to holdouts of US$1.3 billion...

The judge told Argentina's lawyers that the nation needs to put $1.3 billion into escrow by December 15th, pending the Appeals Court’s ruling. If Argentina fails to do so and the country's appeals process in the US is exhausted, the sovereign CDS will be triggered.

JPMorgan: - A potential refusal by Argentina to comply with an adverse
ruling would threaten “technical” default on 2005 and 2010
restructured claims (92% of total debt defaulted in 2001). This
would occur if US courts considered the remedy (pro rata
payments) adequate and equitable.

Based on Argentine government's belligerent behavior toward the rest of the world (see discussion), the odds of the $1.3bn showing up in the escrow account next month are not great. That, combined with the Appeals Court (as well as whatever other appeals Argentina can come up with - possibly appealing to the US Supreme Court) agreeing with Judge Griesa, will put the nation into default - again. By the way, those who still don't think Argentina's government is acting like thugs toward foreigners, just read this story from the Mail.

The market-implied peso exchange rate (the so-called "shadow" exchange rate - see discussion) now puts the peso at 42.3% discount to the official rate as the currency continues to decline. Should the technical default take place, the US will begin freezing Argentine government's dollar accounts - which will push the shadow exchange rate to new lows.